ACO01 Mock Exam 2015 1

(10 points) Banana, Inc. has had debt with market value of $0.5 million that has paid a 5% coupon and has had an expiration date that is far, far away. The expected annual earnings before interest and taxes for the firm are $1 million and the firm has not grown, nor does it have plans for any growth. The firm however has just raised more equity to retire all its debt. If the required rate of return to equity-holders (after the capital structure change) is now 10%, what is the market value of the firm? Assume there are no taxes. (Enter just the number without the $ sign or a comma; round to the nearest whole dollar.) Answer for Question 8

c) Cash flow: Expenses such as depreciation are not cash flows and are therefore not relevant. Similarly, the book value of existing equipment is irrelevant, but the disposal value is relevant.

Corporate assets cover a wide variety of investments, including buildings, machines, vehicles, computers, office furniture and any other kinds of additions and improvements (as opposed to repairs). With Straight-Line Depreciation, a business owner would select a term (i.e. five years), and divide up the purchase cost evenly for each year of the term. In contrast, Declining-Balance Depreciation using a declining book value to calculate depreciation, which would provide a major shift of generated revenue, affecting income in the short term. Also, by having higher depreciation in the initial years of the asset’s productive live will produce lower taxable income for the company (Fishman 120-22).

30) Which of the following most accurately reflects the concept of depreciation as used in accounting?

c. Decrease. An increase in interest rates would create a higher balance in retained earnings. Though this could lead to an increase in payout ratio, it is often likely that the ratio will decrease.

14. A company purchased available for sale securities on 1/1/2008 for $80,000. On 12/31/2008, the fair market value of the available for sale security increases by $45,000,

Explains the changes in the shareholders’ equity items (Common Stock and Retained Earnings) from one year to the next.

d. Earnings per share (EPS) = Earnings After Taxes(EAT)/Outstanding Shares. If the number of outstanding shares is reduced by a buyback of shares then the EPS will increase if the EAT remains unchanged. However the EAT is reduced since there is interest expense. If the dividend

3. Calculate the cost of common stock equity and convert it into the cost of retained earnings and the cost of new issues of common stock.

(a) Since EQT is an all equity firm, its earnings are $22,000. Thus firm value is the equity value, which is the discounted

The straight-line method has always used by the company, but recently the company decided to change its method of depreciating long term assets to be consistent with major competitors, which use a declining-balance method. However, this change will cause past expenses to be higher and income to be lower. It is important to remember that net income from continuing operations will decrease at the time of recognition; meaning in the future depreciation expense will decrease, but in a long run it will increase when

The straight-line method of amortization or depreciation is widely used by many organizations in order to depreciate fixed assets and is the most common method that is used to amortize intangible assets. This method is selected because organization financial leaders and accountants feel the asset delivers benefits throughout each year of the projected useful life. In addition, this method has the advantage of being easy to apply and it results in greater net

d. Market expectations of the growth of future earnings (and dividends) of the company are revised downward.

c) Cash flow: Expenses such as depreciation are not cash flows and are therefore not relevant. Similarly, the book value of existing equipment is irrelevant, but the disposal value is relevant.

19. Consider the three stocks in the following table. P t represents price at time t, and Q t represents shares outstanding at time t. Stock C splits two-for-one in the last period. (LO 2-2)